Property Tax Adjustments and Deductions Affected by New State and Federal Tax Laws

By Phil Dodd

The first of a two-part series on revisions to state and federal tax systems.

Aproperty tax adjustment change made by the Vermont Legislature last spring means about 20,000 households with annual incomes of more than $47,000 will receive smaller adjustments on their school property tax bills this year than they would have under the old law, according to Doug Farnham, policy director and senior research economist with the Vermont Department of Taxes.A second property adjustment change will kick in next year and could hit a small number of low-income Montpelier property owners particularly hard (see accompanying article).

The changes to property tax adjustments were included in Act 11, a tax reform law that was passed by lawmakers in response to the significant overhaul of the federal income tax system enacted by Congress last year and is effective for 2018. At both the state and federal levels, some of the changes could adversely impact some Vermont property taxpayers, particularly those with higher-priced homes.

Under the new federal system, deductions for state and local taxes (SALT)—such as property taxes and income taxes—are limited to $10,000, combined. There had been no limit before. That change has proved controversial in states such as New York, New Jersey, and California, which have high incomes, high property values, and high taxes. Vermont also has relatively high taxes, but incomes and property values are lower here, so a smaller percentage of the state’s population may be affected.

A couple of other federal changes could offset the SALT limitation for some affected taxpayers, according to accountants. For one thing, the Alternative Minimum Tax—which eliminated SALT deductions entirely for those who had to pay it—will hit many fewer taxpayers now. Second, the standard deduction has been nearly doubled, meaning fewer people will be taking itemized deductions (such as property taxes). According to Farnham, 30 percent of Vermont taxpayers took itemized deductions under the old system, and only 9 percent are expected to do so under the new law.

Vermont decided in Act 11 to do away with itemized deductions entirely. Before, itemized deductions at the federal level flowed through to the Vermont income tax form. Now, with itemized deductions out the window in Vermont, there is no place to write off property taxes, even if they are itemized at the federal level. But the state has added a standard deduction of its own, ranging from $6,000 to $12,000, depending on family status.

Act 11’s changes to the property tax adjustment system do not appear to have been driven by the federal tax law but instead by financial pressures. One set of changes, effective this year and reflected on current property tax bills, affects the “income-sensitivity” provisions of state education finance law and impacts the 20,000 taxpayers referenced above. Currently, 70 percent of Vermont homeowners receive property tax adjustments of some type.

After the Supreme Court declared Vermont’s system of funding education was unconstitutional, the Legislature in 1997 passed Act 60, which created a statewide education property tax. The Legislature went beyond the mandate of the court and took the opportunity to create a system that provided income-based relief from school property taxes to taxpayers with household incomes up to $75,000.

Over the years, that income limit was raised to $90,000. Primary homeowners with incomes below that level pay their property taxes based on a percentage of income, up to a point. A provision was also added later to provide a reduced level of relief to homeowners with incomes above $90,000, phasing out at about $140,000 in household income. According to Farnham, the amount that a homeowner’s property tax bill is reduced ranges from as little as $1 to as much as $8,000, which is the current statutory cap.

With all the changes, the total reduction of money going to the state education fund as a result of the school property tax adjustment rose to $166 million by 2017. With some legislators saying the program had become too generous, the Legislature last year made changes to the adjustments that will reduce or eliminate adjustments for some taxpayers, particularly those who are sometimes called “house rich, cash poor.”

For households that earn between $47,000 and $90,000, the value of a house that can receive an adjustment was reduced from $500,000 to $400,000. A homeowner with income in this range with a higher-priced home will get income-based adjustments on the first $400,000 in value, but pay the regular school property tax rate for the value of the property above that level. This change affects 3,000 households statewide and increases revenue to the education fund by $1.8 million.

For households with incomes above $90,000, the amount of house value subject to adjustments has been reduced from $250,000 to $225,000. This change affects about 17,000 households statewide and boosts state education revenue by $5.9 million. According to Farnham, property tax adjustments above $90,000 will now phase out entirely at about $132,000 of household income.

In 2017, 1,389 homeowners in Montpelier, or 71 percent of the primary homes in the city, received an education adjustment of some kind. Of those, 947 benefited only from the school tax income-based adjustment. Another 442 also received a reduction from the “circuit-breaker” adjustment described in the accompanying article.

Circuit Breaker Change Next Year Could Hurt Some Lower-Income Montpelier Residents With Medium-Value Homes

Recent legislative changes to the so-called “circuit breaker” property tax adjustment could affect some Montpelier taxpayers with low incomes and high property values starting next year.

Beginning on July 1, 2019, there will be separate caps on municipal and school adjustments under the “circuit-breaker” system, potentially impacting some property taxpayers in towns with either high municipal taxes—such as Montpelier and Barre—or elevated school taxes, according to Doug Farnham, director and senior research economist with the Vermont Department of Taxes. The changes are included in Act 11, a tax reform bill passed by lawmakers last session.

“When tax changes are made, there are winners and losers,” Farnham said. “With the cap on municipal property tax adjustments, Montpelier residents are more likely to hit the cap than most other towns, but, in reality, only about a dozen households have the combination of income and house value that causes this cap to apply.”

These dozen or so Montpelier households will see an average increase of just under $300, Farnham said. If the municipal tax rate rises significantly in the future, more of the approximately 450 Montpelier homeowners who qualify for the circuit breaker could see increases, he added.

The circuit breaker, which predates Act 60, ensures that households do not pay more than a certain amount of their income in total property taxes. The limit for those with incomes of $25,000 to $47,000 is currently no more than 5 percent of income. It is 4.5 percent for those with incomes of $10,000 to $24,999.

Act 11 has made two major changes to the circuit-breaker program, both affecting property tax bills coming out after July 1, 2019. First, it sets separate limits for municipal taxes and school taxes. For those in the $10,000 to $47,000 range, the adjustment caps municipal tax bills at no more than 3 percent of income. School taxes are capped at no more than 2 percent of income for those in the $25,000 to $47,000 range, and 1.5 percent for those in the $10,000 to $24,999 range.

The second change limits the amount a property owner can receive under the municipal circuit breaker to $2,400. The maximum a property owner can receive under school tax adjustments is $5,600. Under current law, there is an $8,000 combined limit.

The effect of this is to limit tax adjustments for a few taxpayers in towns with either high municipal taxes or high school taxes. Montpelier is a town with high municipal property taxes, among the highest in the state. “The total cost of the circuit-breaker system shouldn’t change, but some homeowners in towns with high municipal taxes could hit that $2,400 limit very quickly,” Farnham said.

To check the impact of the circuit-breaker changes, The Bridge made some rough calculations for various home values based on a low household adjusted gross income of $15,000 and using the same Montpelier tax rates for both this year and next year.

• For homes assessed at $200,000, the total tax bill with no property adjustment would be about $6,659. With household income of $15,000, the total property tax bill with the circuit breaker would be reduced to $675 this year and the same amount next year.

• For a home assessed at $300,000, the total tax bill with no property adjustment would be about $8,010. With household income of $15,000, the total tax bill would be reduced to $675 this year, but would increase $300 to $975 next year, a 44 percent increase.

• For a home assessed at $400,000, the total tax bill with no property tax adjustment would be about $10,694. With household income of $15,000, the total tax bill would be reduced to $2,964 this year and would be the same next year.

In general, households with higher incomes of $25,000 to $47,000 should see no change either. These calculations are theoretical, so check with your tax adviser if you have questions about your situation.